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Executives

Bob Reeves - President & CEO

William Butler - VP & CFO

Bud Holmes - VP, Engineering & Operations

Jennifer Palko - VP, Business Development & Engineering

Analysts

Dave Kistler - Simmons & Company

Matt Portillo - TPH

John Nelson - Citigroup

Jason Smith - Bank of America-Merrill Lynch

Adam Michael - Miller Tabak

Joseph Stewart - Goldman Sachs

Athlon Energy, Inc. (ATHL) Q3 2013 Earnings Call November 12, 2013 10:30 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the Q3 2013 Athlon Energy, Inc. Earnings Conference Call. My name is Whitney and I will be your operator for today. At this time, all participants are in listen-only mode. Later, we will conduct a question-and-answer session. (Operator Instructions)

As a reminder, today's conference call contains projections and other forward-looking statements within the meaning of the federal securities law. These statements are subject to risk and uncertainties that may cause actual risk to differ from those expressed or implied in these statements in Athlon's filings.

The discussion on this conference call may include disclosure regarding non-GAAP financial measures. For a reconciliation of any non-GAAP financial measures to the most directly comparable GAAP measure, please see Athlon's third quarter 2013 earnings press release. Athlon's third quarter 2013 earnings press release can be downloaded of its website at www.athlonenergy.com.

I will now turn the call over to Bob Reeves, Athlon's President and Chief Executive Officer. Please proceed.

Bob Reeves

Thanks, Whitney. I'm glad to say that obviously we are in a very good quarter coming out of the gate after the IPO. The EBITDA looks fantastic. Obviously, production, cash flows, and earnings per share were all ahead of first consensus estimates. I'm very proud of this. In particular, the IPO is very disruptive to a company or it can be. And we delivered these results around that IPO and the road show. And as you know, a lot of the people that were on the road are the people that are responsible for these results, so I'm very encouraged and I'm really proud of the team for putting out these type of results.

As you know, the production for the third quarter averaged almost 13,000 barrels a day, just under that. That was significantly above what we were putting out for estimates when we were on the road. A lot of really good things happened during this quarter. I think when we originally looked at this plan back in May and June; we were thinking that the forecast for the quarter would be around 11,400 barrels a day. So we were about 1500 barrels a day above kind of where we thought or 13%. But we had a really good string of wells. As you know, all of the drilling in the third quarter was vertical wells, so none in the horizontal rig wells have contributed to the production in the third quarter.

And the vertical program is very much a statistical play and we were very fortunate that we had a very good round of wells that simply just outperformed the type curve. I think the guys have done a really job as far as dialing in the completions on these wells and optimizing the frac designs and the completions of some of these zones. I think they know some of these well zones very well now. When you're talking about 3,000 to 4,000 feet of pay in these vertical wells and where you put your perforations and the amount of stimulation when you put in the well, I think the guys have really dialed this in. I think that you're going to continue for us to see outperformance, but again, it is a statistical play so there will be times when you hit a round the wells that significantly outperform then there will be other times when you're kind of probably more along your average and we sure hope for a not very many periods where they go under the average but certainly that's possible, but right now things are moving along very nicely with the company as you can tell.

One of the things we were trying to do by the end of the year is exit the year at 13,000 barrels a day and we were over 13,000 barrels a day in September alone. So we're very proud of the direction that the company is headed from a growth standpoint.

EBITDA followed suit with $63 million of cash flow from EBITDA. We had forecasted under $55 million. $55million was actually closer to our discretionary cash flow, so we're very happy with that as well.

Net income excluding certain items was $18.6 million, or $0.24 a share, that was excellent again. Everything was accomplished this quarter through the vertical Wolfberry program, so we're very happy with that. We actually hit a milestone this quarter drilling our 300th vertical Wolfberry well. So again, we're very happy that vertical program is doing well.

As everyone knows the kind of a backbone of this company was established on the vertical program and we're moving into the horizontal phase of the company but the vertical program continues to deliver excellent rates of return we're in. We continue to use that as a backbone to deliver exceptional results as we enter the horizontal phase. And I know everyone is excited about the horizontals coming up. So let me talk about the horizontals briefly.

We did drill our first two horizontal wells successfully in Midland County. One of those wells was drilled to 5,000 feet as far as the lateral goes. We fraced out with 20 stages and that's a perforated length of just over 4,500 feet. That well is producing fine right now; it's flowing up the casing. We're very encouraged by the results of that well. We stated on the road show that we weren't going to put out horizontal wells until we have 30 days of production data on them. I think we like to stick to that and not get too overexcited by 24-hour rates or shorter periods of time. So I think we would like to stick to just discussing wells once we have the full 24-hour rate that you can accompany with the 30-day rate. So obviously we don't have 30-day rate on that well yet, but it looks very good.

We drilled that second well in Midland County, that's a longer well. That's an 8,000 foot lateral. We have not completed that well yet. Everything drilled fine on that well and it will be completed sometime after Thanksgiving, I believe. So no problems there.

As far as the next move for the company on the horizontal side, we're moving the well, the rig to Glasscock County and in Midland County we're drilling Wolfcamp B wells. In Glasscock County, we're going to be drilling Wolfcamp A wells. And we will drill two of those. Those would be well we consider medium length, kind of in that 7,500 foot range to 8,000 foot lateral length. And what's new I guess that we put in the press release is after we drill those two Glasscock County wells we're moving that rig to Howard County and that should be sometime in January and we'll drill three wells in Howard County instead of the previous plan that we had on the IPO to drill in Irion County and then move to Howard County.

Let me just talk briefly about kind of what we were thinking as far as moving it to Howard County. Basically, this was a technical team decision. And originally when we put this plan in place, this was back in June again; there just wasn't a lot of horizontal activity in Howard County as we heard over and over on the IPO. But since then, there's been a lot more activity. There's been five wells drilled in Howard County. There's one well drilling right now. There's three additional permitted wells. So that's nine wells total.

What we've seen on the production side from other operators is obviously very encouraging, and so we feel really good about it. So, as a reminder, we're drilling with four vertical rigs in Howard County right now. So we're gaining a lot of technical data right now and we're putting that all -- we're stimulating that all together and we're looking at things like thickness across the area, the organic content, the brittleness, permeability, the original oil in place, and obviously there's been other operators out there in Glasscock County that have put out a lot of technical work on Glasscock County. That technical work we think is very similar to what we're seeing in Howard County. So a lot of the work that you're seeing out there as far as on the east side of the basin but further south in Glasscock we see the same thing in Howard County, so we're very encouraged. So with those four rigs running, we drilled over 150 wells in Howard County now with excellent results.

We are putting out a new IR presentation here this week. I'm speaking at the Stephens Conference in New York, I think tomorrow. And so we're going to put out some new well results. So we've seen some really good wells in Howard County. We've seen some new good wells in Glasscock County, Midland, Martin. So the vertical program has done really well. But in particular that Howard County has done really well. So we're just going to move the -- go ahead and move the horizontal rig up there. Obviously, we have a lot of acreage up there in Howard County. The more that we can see production and technical data from these wells as early as possible in 2014, it gives us the ability to reallocate our capital as we start looking forward to 2015.

So we haven't formally given guidance for 2014 yet and obviously we're overperforming right now. So if you overperform your production, there is two things that can happen, either your growth rate for 2014 has to go down or your production and your cash flow guidance has to go up. So I think we're going to be very positive with our 2014 guidance. I think 2014 is going to look better than what we thought back in June just like the second quarter did, the third quarter has looked better, and I think the fourth quarter we're obviously putting our production guidance and LOE numbers and capital numbers that are very favorable.

So I think as we look forward to 2014, we put that out at the beginning of January or early February. I think that it's going to be very encouraging. So we feel good about that. We will drill those three horizontal wells in Howard County and then we will just determine whether or not we want to go down Irion County and drill those wells down there. I think we will just continue to monitor the Midland County wells, the Glasscock wells, and the Howard County wells, and then we will just decide.

I think as a company, we feel like the northern end to the Midland Basin is going to be favorable to more the southern end where the Irion County acreage is. So and that's where most of our acreage is, is in those four key counties for us Howard and Martin and Midland and Glasscock County. So those are the areas that we won't exploit first. But as we continue drilling ahead, we do continue to drill on the vertical side and we've been running ahead of the wells that we originally planned to drill. So we're drilling more wells each quarter than we originally thought.

Now, I know our capital was slightly higher than we're originally thinking. Obviously, we drilled more wells. So your capital is going to go up, that's a good thing. One of the other things is we reallocated some of our capital over to the west side and those wells are deeper. We were actually drilling over there in Andrews County and those wells actually costs more but the rates of return on those wells are just as good as well. So from time-to-time based on the land department has picked up leases over there that needed to be drilled. As you know not all of our capital is required capital to hold leases, so we can be nimble with these seven rigs that we're running.

So we moved some of those rigs over there to Andrews County, drilled some wells, helped some leases, got a good deal on those leases. So that was not out of the ordinary that is what we do with our capital program. We will allocate it to where we need it. So it's part of being very nimble as a small company.

Some of the other overage, we simply just got that horizontal well earlier than we thought. So you see the capital coming in on that well earlier. The production has not followed suit. Obviously, there was no production associated with that well in the third quarter, but you're picking up some of that early cost on the horizontal side.

And then, on the frac side, I think the guys are just -- have accelerated the fracking. They are getting the fracking crews down to faster, so they're fracking these. Instead wells waiting for extended period of time to be fracked, they are simply getting them in the queue and getting them fracked quicker which that accelerates everything as far as the rate return which that's our whole theme is to get that cash flow coming in early accelerate that rate of return.

So on the capital front, I feel very good about it. We looked at these things on an individual well basis. I can tell you that the rates of return look fantastic this quarter and there's really nothing out of the ordinary on capital as far as dollars.

We've got plenty of liquidity. One of the things that we're doing right now, and in fact that's why we have the conference call later in the quarter is we're doing our bank redetermination last week. The bank redetermination, I think we're originally looking at moving the borrowing base up this quarter kind of in the $380 million to $400 million range. I think because of the well results that we've seen, I think it's going to look closer to $500 million to really $525 million on a borrowing basis standpoint. None of that is drawn right now. We still have $200 million cash on the balance sheet. So our liquidity right now is in excess of $700 million. I think we really think as we got just specific numbers it would be closer to $725 million of liquidity right now. So you couple that with excellent drilling results. And I think this company is really well positioned right now.

We did close on a couple of previously announced acquisitions in this quarter that was $18 million, and then we continue to put infrastructure in place and pickup additional leases that was another $3 million.

On the operating cost side of things, our LOE dropped down to 719 per barrel, that's something that Bud works and strives very hard to work with the field on, the field has done an excellent of continuing to monitor those costs. Again, working through all of those things and keeping our eye on the ball turning a really hectic period of time for the company during the IPO I'm really proud of everybody from Bud all the way down to the field guys. So they've done an excellent of putting that together.

So in total for 2013, it looks like our CapEx for drilling is going to be in the $380 million to $390 million. There will be another $15 million in there for the leasing; the infrastructure and the capital work over. So everything looks good on that standpoint.

And again, I think we brought our production guidance up for the fourth quarter in the 14,500 to 15,000 range. Just as a note on the guidance and in particular the production guidance going forward, I mean, we're not looking to try to beat the production guidance by this amount every quarter. We're going to try to dial it in a little closer. Certainly we're very excited when we beat the numbers like this but we're going to try to be closer.

That's not to say that we won't beat it again handily next year. That's obviously something that's good. But we are raising our guidance from where we originally where we originally thought. So now we're in the 14,500 to 15,000 range. So I think the guys -- it's a very cautious as you saw on the road. So they like to over-perform. So we're going to try to keep it at that theory kind of going forward. So the next quarter I look to be very good as well.

So we will put out 2014 guidance formally sometime in January. And again, nothing has changed as far as our 2014 program. We still plan to pick up that eighth vertical rig right now in early January and we still plan to pick up that second horizontal rig sometime in the second quarter of 2014. We're hoping that that will be more in the paired drilling type horizontal drilling rig. That rig will probably go over to Midland County and start drilling -- knocking out those horizontals over there. Again we're very highly encouraged by the well results we've seen over there. That was the original plan was to put that rig over there and leave it. I don't think that plan has changed a bit.

So 2014, as far as the rig count goes will be very close to what we talked about earlier on the IPO. I think we're going to have to take a good part and look at what we anticipate the production and cash flows from that program. Obviously that's going to be better than we originally thought. So we'll take a look at that and put out that, like I said, early in the first quarter of 2014.

As you look at the company though one of things that we were trying to focus on here at the company is just putting together a very strong inventory. So we really are proud of our inventory right now. Our vertical inventory that we have right now is almost 5,000 locations. There's a ton of upside, there is 360 million barrels of upside associated with that vertical drilling program. That will end up to quadruple our proved asset base right now.

On the horizontal side, we've identified over 800 Wolfcamp locations. That's another 350 million barrels of upside with 20 years of drilling and a three-rig program. Our philosophy is that you really can never have too much quality inventory in your bay. So we're very happy to have that inventory and, of course, we'll continue to monitor and look at how efficiently we can bring that capital and those cash flows forward and really increase the value to our shareholders.

One of the other things that we're continuing to look at out there in the basin is I know there's been a lot of discussion over different zones out there in the basin. People are looking at the Sprayberry, the Jo Mill and then down deeper they're looking the Cline, where they call that the Cline or the Wolfcamp B, the Strawn and even the Atoka. So we're monitoring all those things. Right now, we're really focused on Wolfcamp. That's what we do. We focus on one thing and try to do it really well so we're not jumping all over the place putting our technical bag and then pulling them off and putting them on something different, but we are monitoring those things very closely.

As far as the board goes, since the IPO we formally put three additional board members on. We're very happy to have all three of these gentlemen. Ted Gardner joined the board in conjunction right at the IPO, and he's the Managing Partner of Silverhawk Capital Partners. They're headquartered out at Charlotte, North Carolina. Ted is really a great board member. He's someone who I've worked with in the past and I'm certainly glad to have him on the board.

Mark Stevens joined earlier in October. Mark worked for XTO from kind of the beginning to the end. He's still working with a lot of the XTO guys at Morningstar. He's had a very successful career through the XTO years and on to the ExxonMobil years and Mark brings a wealth of knowledge to the company.

The third guy that we brought on Wilson Handler. We've been working with Wilson for a couple of years now at Apollo. He's a very, very smart young man and he brings a wealth of knowledge. He's one of those guys that really brings a good attitude and he works hard to get through a lot of this data and really helps us look at things from a very insightful light. So we're glad to have all three of those guys and it's a positive for Athlon from all standpoints.

So with that we will have Q&A here at the end. I'm going to turn this over to William. He's going to talk about some of the GAAP numbers and take a look at the balance sheet and then we'll be glad to open the line up for Q&A. I know we weren't able to do Q&A last quarter because we were too close to the IPO but I've got the whole team in here today so we're more than happy to take questions from everyone as far the quarter goes. So with that I'll turn it over to William.

William Butler

Thanks, Bob. I want to walk through first the third quarter net income and EPS adjustments. On a GAAP basis, we reported $2.5 million of net income to common shareholders. That equates to $0.03 per diluted share.

Net income excluding certain items was $18.6 million for the quarter. And that's an increase of 50% year-over-year and that equates to $0.24 per share on the diluted basis and that compares to last year at $0.18 per share for the third quarter of 2012.

So I want to run through the items that were included and were excluded to get to that net income. On a pre-tax basis, there was non-cash derivative losses of $19.9 million for the quarter. There were corporate reorg costs of $200,000, which was included in the G&A line item. There was a contract termination fee of $2.4 million, which we called out separately in our income statement. There was a nonrecurring IPO cost of $2.3 million. $2.1 million of that was classified as G&A, and another $200,000 of that was included in LOE line item. And then there were changes -- the change in non-controlling interest related to those items I just mentioned was a negative $500,000. And then the tax effect on all those combined items was $8 million. That's the reconciliation for you folks.

Now, I want to switch over to look at the balance sheet. Liquidity, Bob went over this a little bit. We did close out the quarter with $197 million in cash on hand, obviously that's the IPO proceeds sitting on the balance sheet. We had nothing drawn on our revolver of $320 million at the time and, yeah, I'm happy to report that effective this week, later this week, we expect our borrowing base to increase to the range of $500 million really $525 million. That's in the normal course of business. Our fall redetermination we just went through with the banks is based on the tremendous success that Bob just outlined on our drilling program year-to-date. So that gives us current liquidity, as Bob said, of $720 million. We do that and when we look out over the next 15 to 24 months as ample liquidity to handle the drilling program that we've laid out as well as to give us cushion to pursue acquisitions through the basin.

If you look at the debt to EBITDA numbers and you annualize the current quarter that comes to EBITDA of about $250 million. When you take our $500 million in senior notes, we've got outstanding less that cash balance our pro forma net debt to EBITDA there is 1.2 times that is extraordinarily good number. So we feel very comfortable with and our program that we've contemplated and talked in the past, we feel our debt metrics are going to stay, very much in line and conservative.

I want to switch over and talk a little bit about hedges. We do have a meaningful portion of our near-term cash flows hedged through oil swaps. We do that to protect our drilling commitments, give us time to adapt to commodity price changes. For the fourth quarter we've got 7,000 barrels of oil swapped at $95.01. For 2014 we've hedged 7,950 barrels at $92.67 using swaps, and then when you look at 2015 we've got another 1,300 barrels a day and that's swapped at $93.18 and we will continue to look at opportunities to add to that in the future.

So switching and looking at the guidance in a little bit more detail, as Bob indicated, we've laid out a range of 14.5 to 15 MBOE per day for the fourth quarter. That represents sequential growth over the numbers we just posted of 12% to 16%, and that represents 66% to 72% growth over fourth quarter of 2012. So again the company has extraordinary organic growth embedded in just the vertical program.

We did continue flaring some gas and so that again I think is more credit to haw the company outperformed at 4.4 net MMcfe a day for the quarter. That's liquid rich gas volumes, now is really due to temporary constraints related to gathering systems and processing systems that were being put in place during that period. Those issues have largely been resolved at this point. Going forward, we do expect to have nominal amounts of wellhead gas that will continue to be flared due to ongoing delays in hooking up newly completed wells just as we run through the basin.

Going to the cost side LOE, we put out a range of $7.15 to $7.30 per BOE for the fourth quarter, relatively in line with what we did this quarter. We expect our production, ad valorem, and severance taxes to range between 6.5% and 7% of wellhead revenue, that's consistent with recent quarters. And then we expect our recurring cash G&A to be between $3.20 and $3.40 per BOE. That does include some additional normal course, public expenses, public company expenses that were added following the IPO.

So one thing I'll add, as Bob mentioned, we're going to be presenting at some upcoming Investor Conferences, the Stephens New York Conference this week and then next week down in Miami at the BoA Equity Conference. We will also be putting our Investor Presentation out there soon on the website and we plan to file our 10-Q on Thursday.

So that wraps it for me. With that, I think I'll turn it over to Bob for closing comments, or you just want to go straight to Q&A.

Bob Reeves

No, let's start really go ahead and get the queue ready and we'll start taking some questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Dave Kistler with Simmons & Company. Please precede, sir.

Dave Kistler - Simmons & Company

Just trying to get a handle on '14, I know you've not given formal outlook for CapEx yet. But can we take the 4Q run rate use that as a base run rate for the balance of next year and then may be add an extra call it a $100 million for the incremental vertical and horizontal rigs to kind of maybe get roughly around we'll call it 580, 560 something to that effect, is just a placeholder in the meantime?

Bob Reeves

I think that that's fairly close. So I think that we drill 24 wells per vertical rig. They average a $2 million of fees, depending upon on whether you're on the west side or the east side. So that's pretty easy to add up. On the horizontal side, just kind of depends on the timing when that comes in but that should be around April and that is for the year, that will be another nine wells at --

Jennifer Palko

I think it is $70 million on that.

Bob Reeves

$70 million there. So you put those two together. I think you're probably pretty close if you're saying it's an extra $150 million or so, it's probably good estimate.

Dave Kistler - Simmons & Company

And then, with respect to the vertical drilling that you guys are doing, can you talk through a little bit about the number or frac stages that you're applying on those vertical wells to tap kind of that 3,000 foot interval of productive capacity and may be which zones you're really trying to target as part of the production from this?

Bud Holmes

Sure. This is Bud Holmes. We're typically fracing anywhere from 8 to 10 stages, depending on the area that we are in. Obviously, that ranges anywhere from the middle to lower Spraberry down to the Atoka and sometime into the Mississippi formation. And it varies from area-to-area and well-to-well on what we see. Like Bob motioned, there is a statistical nature to this play across the 3,000 foot well. And so basically, within each area and within each specific well we'll capitalize on what we see off the logs and we will customize each zone, stage based on what we see geologically off of the formation logs that we see.

Dave Kistler - Simmons & Company

And just really quickly, thinking about HBP. Obviously, running more vertical rigs to make sure you hold your whole acreage by production, any thoughts towards moving more towards horizontals versus verticals or sticking very much with the plan that you kind of outlined as part of your IPO process?

Bob Reeves

Well I certainly think that out of the gate, meaning what we would initially put out there early in the first quarter would be that IPO plan of eight vertical rigs and bringing that second horizontal rig in kind of at the end of the second quarter or middle of the second quarter, whenever we get it. But I certainly think that we try to be smart as far as our capital allocation goes. As we look at the second half of 2014 and we look at the well results that we are having as far as the horizontals go, so getting those early horizontal results from Midland County, from Glasscock County, and from Howard County, there is certainly the possibility to reallocate capital towards the second half of 2014. We don't have such a rock solid plan for '14 that we refuse to reallocate capital. In fact that's one of our main objectives, is to allocate capital to the highest rate of return.

I think we would run five vertical rigs in 2014 to HBP our leases, so five out of the eight rigs will be running no matter what. Again, we like the sustainability and the reliability of the vertical rig program. We worked very hard on these rigs and these crews and these vendors to get top notch rigs with great crews. And to be honest, we are very hesitant to let those go. I mean, we are very proud of those guys that are working on these rigs, on these late shifts and getting these wells down on time, under budget. So -- and it is translated into a very successful company.

So I know that was a long answer but we will be -- we will constantly look at the capital program. Obviously, our liquidity looks very good right now. So it might not have to be an either or type scenario, it could be an additional type scenario where we just bring in additional rig. So we will look at that close, Dave, and obviously we will keep our shareholders and everyone updated on to our plans well ahead of time.

Dave Kistler - Simmons & Company

Great. I appreciate that incremental detail and fantastic results out of the gate guys.

Operator

Your next question comes from the line of Matt Portillo with TPH. Please proceed sir.

Matt Portillo - TPH

Just two quick questions for me. In regards to Howard County, I was wondering if you could provide any incremental color on the five wells you mentioned that were encouraging. And then secondly, as you guys think about the zones you may be targeting in Howard, could you talk about -- a little bit about the prospect activity of the zones and may be what you will initial will be testing in that area?

Bob Reeves

Sure. So in Howard County, the first operator out there that drilled that initial well during our IPO I think they drilled completed, and are producing their second well. They're currently drilling their third well. Another operator out there and they permitted their fourth well. Another operator out there that were partners with him has drilled one well out there and they permitted another well. And then another large independent operator has drilled a well on Howard County to the east of our acreage and has that online is producing -- has actually permitted the second well. So there's four different operators out there right now that are drilling horizontal wells basically to the north of us, to the south of us, to the east of us.

So we're pretty much surrounded now and -- but more importantly what we're seeing on our acreage is more probably more important than even what's happening in the other areas, so we think our rock properties might be better to be right along where we see our properties. So we think when we drill we'll probably -- we're very encouraged that we can -- could actually even possibly do better, still. And that comes from the vertical program. So the more logs that we run in the area, which that costs a little bit more, we're running a few more open hole logs right now to get ready for the horizontal program but that really pays off when you start steering those wells and find kind of the optimum location for those and calculating some of these things that we've looked at as far as the rock qualities to determine the horizontals.

So you couple all that together and you feel just really good about what's going to happen in Howard County and those will be Wolfcamp A zones initially.

Matt Portillo - TPH

And then as we think about I guess between Howard, Glasscock, and Midland County obviously you have a lot of kind of offset data that's delineated to other zones kind of other than the initial tests you guys have planned, how should we think about as we roll into 2014 some of the incremental delineation that you may be doing whether be in the Wolfcamp A or B any to those counties and then potentially in either some of the deeper zones like the Cline or may be in the Spraberry if you see those perspective across your acreage and I'll leave it at that?

Bob Reeves

You know on the delineation process I think that we're going to stick to our program of letting others delineate and then we come in and really apply what we've learnt on the vertical side to the horizontals, which ones they are established. So I don't think we'll be a company that goes out there and just drills these incremental zones for the sake of saying, okay, we have these incremental zones so and here is the data on. I think there's nothing wrong with doing that for sure, but we really try to focus on keeping that capital as focused on rates of return that we can take to the bank. So I don't expect that to change. I don't see us going out there and testing the Spraberry proper acreage or going in and drilling the Cline well or anything like that.

I think for 2014 I really feel like we're going to be sticking to that Wolfcamp A on the east side of the basin and sticking to the Wolfcamp B on the west side of the basin. Now, again things change and we see that. I mean, things are changing rapidly out in particular in the northern part of the Midland Basin and we will not ignore good results out there and we will reallocate capital. But we do have the ability to do that. We talked about we don't have a high degree of HVP capital that's required. So we'll be monitoring those things very closely doing our technical work alongside others that are releasing those. So it is something that we'll take a look at.

Operator

Your next question comes from the line of John Nelson with Citigroup. Please proceed.

John Nelson - Citigroup

If I could just follow-up on the Matt's question for a second, the third-party operator wells that you sort of ran through there, were they all Wolfcamp A as well?

Bob Reeves

Yes, all of them are Wolfcamp A. I think there's one that you could possibly consider to be lower Spraberry but that could just be how it was reported out there. We feel like folks are definitely targeting the Wolfcamp A. So sometimes there are some differences as far as reporting as far as whether you're at the top of the zone or the bottom of the zone but the Wolfcamp A is the principal zone being targeted at least in Howard County.

Now I know down in Glasscock County one of the other public companies out there, one of our peers has put out a lot of results in several different formations. Obviously, we see those formations in Howard County as well, but we're sticking to that Wolfcamp A at least initially.

John Nelson - Citigroup

And I just wanted to clarify in 4Q guidance is there any horizontal contribution sort of baked in there or should we think about all of this raise as really the vertically program outperforming?

Bob Reeves

Well, I think there's a combination certainly, we're carrying forward the vertical program outperformance into the first quarter and I think we're trying to be, include the horizontal well results but we're probably sticking to kind of our tight curve on horizontal levels right now as far as production guidance goes. So we're hesitant to bring up the horizontal production above

Operator

Your next question comes from the line of Jason Smith with Bank of America Merrill Lynch. Please proceed.

Jason Smith - Bank of America-Merrill Lynch

Just on the -- on your LOE, so you guys have done a great job of getting those lower in the last few quarters. And it looks like 4Q of the guidance is kind of seeing flat now. Bob, do you see any opportunities to continue to knock those down as we go into next year?

Bob Reeves

Oh, yeah. I think the LOE is going to continue to go down but it is going down largely at this point because of the flush production that is going to come on from these horizontal wells. And to the extent we continue to outperform production on the vertical wells it brings down at LOE as well. So if we continue to outperform the type curves on the vertical, then you put that together with the horizontal flush production, LOE per barrel continues -- will continue and go down. I mean we see it going below seven next year for sure.

Jason Smith - Bank of America-Merrill Lynch

And then, on realizations, I mean obviously basis was essentially non existent in third quarter, it has widened out a bit in 4Q. And I know you guys have some basis hedges on. But how should we think about your realizations in 4Q? And then also, have you guys thought about adding additional basis hedges into '14?

Bob Reeves

We have not put any additional basis hedges on for 2014. And I really feel like at this point it -- and it should not be necessary. We feel like, yes, the Midland basis has widened recently and those hedges are helping us, but we think that is probably temporary lift. We expect the differential to kind of go backward then historically, was very tight as you know in the third quarter. So '14, we expect to kind of go back to that range. Now, I think there will be temporary expansions of the differential and then there will be temporally extreme tightening of the differential, but we do not think that there will be any extraordinary blowout for 2014. Now, we'll take a look at hedging those as we -- as the market -- the liquidity in the market stay there for basis hedging but we do not have any real plans right not to hedge that out.

Jason Smith - Bank of America-Merrill Lynch

And on 4Q, should we -- I mean should we expect the realization probably comes down a little bit?

Bob Reeves

Yes. I mean, we are seeing somewhere in the $3 range right now. So I would probably guide you towards that right now then taking into account that 5,000 barrels that we have hedged at above 20. So I will kind of run that for the fourth quarter (inaudible) but I do not have a crystal ball.

Operator

(Operator Instructions)

Your next question comes from the line of Adam Michael with Miller Tabak. Please proceed.

Adam Michael - Miller Tabak

I wanted to ask a couple of questions on the vertical program. I think back on when you filed the S1 you cited that rates return over in Howard and Midland are kind of in mid 30% to mid 40% range and it sounded like based on the quarter that you are outperforming those type curves. And I wanted to see if you guys could shed any light or how to quantify, like how much out-performance are you seeing, a step up in performance from the vertical program and may be what we can look for going forward?

Bob Reeves

Yeah, on the vertical program, like I was -- in like my opening comments said that, I mean it is a statistical play. And obviously, we drilled enough wells now in each one of the areas that we kind of have a -- we kind of feel like we have got a nice solid line as far as when the wells are going to -- the percentage of opportunity of well is over-performing underperforming and so we have a pretty good grasp on it. Like I said, it is really hard to tell at this point in a vertical process, how much of our production is simply because of the rock outperforming and how much of it is just your team is outperforming. So there is a combination of those, and you really have to look at those things in high inside and give yourself plenty of production data over several months to really determine that.

So my answer would be that we need more data and more length of time data. Right now, we are going to kind of our year end proved reserve process as far as determining where our proved reserves would be at year end. Again, we do not really focus on trying to hit some predetermine level of proved reserves or F&D or anything like that. I think the team would like to see a lot more data on these wells as far as production goes to determine how much of it is really outperformance whether -- versus how much of it is just simply hitting kind of at the high end of the over-performance from the statistical nature of the play. So I know that I not really a great answer as far as the determination but you just simply do not have enough technical data right now to make that determination.

Adam Michael - Miller Tabak

Okay. And then, just a follow-up on the vertical program. Like can you walk us through kind of the time frame of -- I know that the horizontal well takes time to schedule frac, might be a month or two before you bring it online after it is -- the well is drilled. Can you walk us through the timeframe on a vertical well, typical vertical well, after it is drilled how long does it take to frac and tie into production?

Bud Holmes

Yeah. This is Bud Holmes again. Basically it takes roughly a couple weeks to drill it and then it takes couple weeks to complete it and it couple weeks for it to you come online and start producing sales, will be my generalization on the wells.

Bob Reeves

How many days when to spud?

Bud Holmes

We generally are shooting for around 40 days, some plus or minus from when we spud to when we have the well online.

Adam Michael - Miller Tabak

Okay. That is helpful. So when I read the 46 growth operator wells were drilled in the quarter, I can assume that the amount of well is completed, it is probably pretty close to the same number as drilled?

Bud Holmes

It is pretty close. I think we completed a few more just because of the timing, acceleration of our completions and the fracs getting a little tighter after the rig moves off. So I think we did get a few more fracs in during the quarter.

Bob Reeves

So few of those fracs just carried over from the second quarter, that would have gotten better and tighter on your frac timing and then you get a few more in the quarter. But in general, they should lineup.

Operator

Your next question -- your final question comes from the line of Joseph Stewart with Goldman Sachs. Please proceed.

Joseph Stewart - Goldman Sachs

So I know it has been said many times but congrats again on a very solid quarter. It is very obvious that this is not your first rodeo as a public company.

Bob Reeves

Thank you, Joe.

Joseph Stewart - Goldman Sachs

So most of my questions have been answered but I have one housekeeping question. So during the road show, I think you had talked about the fact that you are working on some acreage acquisition. So with this roughly 5,000 that you picked up during the quarter, does that bring your total position to about 103,000 net currently?

Bob Reeves

Yeah, I think it is just a little bit under that. So I think we are like a 128 or 129 gross and then, we are kind of in that 102,000, 103,000 net acres, yeah. So we are over a 100,000 net acres now, kind of 102,000, 103,000.

Joseph Stewart - Goldman Sachs

Got it. Okay. And then, also have you determine the locations of your horizontal wells that you are going to drill in Howard County?

Bob Reeves

Yes. I mean, there is a big time frame as far as what you have to do to get these wells drilled.

Joseph Stewart - Goldman Sachs

Right.

Bob Reeves

So yes, these guys have picked the locations, they got the permits going, they got to get the frac pits ready, frac pits are larger. So yeah, everything has been determined for Howard County.

Joseph Stewart - Goldman Sachs

Can you tell us, Bob, where those first three will be then?

Bob Reeves

We're drilling two in our large acreage block to the north Big Spring and we're drilling one to the south of Big Spring closer to that Glasscock County line. So that's why we're doing three because we've got a large acreage position there to the north of Big Spring. So put two in there which is closer to some of those wells on the north end of our acreage and then we're putting one on the south part of Howard County that's closer to kind of the Glasscock area line so. And then there kind of spread out kind of in the -- we'd like to try to stick to the middle as opposed to being on the edge and just kind of set it up for the offset operators if we can.

Joseph Stewart - Goldman Sachs

And then finally, the well that you talked that was drilled further to east by the large independent, was that the well that looks like it was targeting the Sprayberry?

Bob Reeves

Yes, that's the one I was saying. You're right, Joe. I mean, when you look at it, it looks like that's what they were targeting, but I think we believe that it's really Wolfcamp B test. Now we could be wrong, I mean, it doesn’t really matter one way or the other. And I don't think we know a whole lot about it other than I think they've permitted their second well now. So they must be doing okay.

Joseph Stewart - Goldman Sachs

And that well is pretty close to the eastern border, to your eastern acreage, correct?

Bob Reeves

Yes, I think the far eastern side of our acreage, sure.

Joseph Stewart - Goldman Sachs

Yes, so that's great do on the (inaudible) point, right?

Bob Reeves

Yes, it could be.

Operator

There are no further questions in the queue.

Bob Reeves

All right, so I guess I'll put some closing comments in, but I think we've covered everything. We really appreciate all of our folks that have supported us. I think if you look at our shareholder base, its kind of an envious shareholder base. We've got top notch shareholders out there from top to bottom and a lot of those guys I've worked with in previous points of my career and we're really glad to have those guys alongside us. We're going to continue to just kind of work on the program that we set our there, try to keep everybody informed as to what we're doing and then just kind plough along here, continue to try to get good results.

So I will see folks like William said, we'll be on the road now more and I'm sure I'll run into a lot of you at these conferences and I look forward to speaking with each and every one of you. And of course, you can call William and myself any time with any additional questions. So with that I'll end it and thanks for being on the call.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a good day.

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